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FINC3240FINC3240International FinanceInternational Finance

Chapter 3Chapter 3

International Financial MarketsInternational Financial Markets

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MarketsMarkets

A. A. Foreign Exchange MarketForeign Exchange Market

B. B. International Money MarketsInternational Money Markets

C. International Credit MarketC. International Credit Market

D. International Bond MarketD. International Bond Market

E. E. International Stock MarketsInternational Stock Markets

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Foreign Exchange MarketForeign Exchange Market

a. Spot Markets and spot ratea. Spot Markets and spot rate

b. Spot Markets Time Zonesb. Spot Markets Time Zones night trading desknight trading desk

Biggest trader: Deutsche Bank, Citibank, J.P. Morgan ChaseBiggest trader: Deutsche Bank, Citibank, J.P. Morgan Chase

Biggest trading center: London, New York, TokyoBiggest trading center: London, New York, Tokyo

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Foreign Exchange MarketForeign Exchange Market

c. Forward Markets and forward c. Forward Markets and forward raterate

d. Futures Markets d. Futures Markets

e. Options Marketse. Options Markets

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Foreign Exchange QuotationsForeign Exchange Quotations

1. Direct vs. Indirect Quotes:1. Direct vs. Indirect Quotes:the direct quote is the local currency price of one unit of the direct quote is the local currency price of one unit of foreign currency. e.g. EUR/USD 1.3855foreign currency. e.g. EUR/USD 1.3855

the indirect quote is the foreign currency price of one the indirect quote is the foreign currency price of one unit of local currency. e.g. USD/EUR 0.7218 unit of local currency. e.g. USD/EUR 0.7218 reciprocal of direct quote.reciprocal of direct quote.

2. Cross Exchange Rates2. Cross Exchange Ratesthe amount of one foreign currency per unit of another the amount of one foreign currency per unit of another foreign currency. foreign currency.

EUR/USD 1.3855; USD/CAD 1.0968; EUR/CAD ?EUR/USD 1.3855; USD/CAD 1.0968; EUR/CAD ?

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Exhibit 3.2 Direct and Indirect Exchange Rate Exhibit 3.2 Direct and Indirect Exchange Rate QuotationsQuotations

1

2139.1

3527.1

1

1

6421.1

1

3527.1

1

6421.1

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Cross Exchange Rates Cross Exchange Rates

Exchange rate between two non-dollar Exchange rate between two non-dollar currencies can be calculated based on currencies can be calculated based on their respective quotations relative to the their respective quotations relative to the US dollar.US dollar.

11 British Pound (GBP)= 1.6421 USD GBP/USDBritish Pound (GBP)= 1.6421 USD GBP/USD

1 Euro (EUR) = 1.3527 USD EUR/USD1 Euro (EUR) = 1.3527 USD EUR/USD

GBP/EUR: GBP/EUR:

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Bid/Ask SpreadBid/Ask Spread

Exchange rates are typically quoted by Exchange rates are typically quoted by banks on a Bid/Ask basis; the quotations banks on a Bid/Ask basis; the quotations found in newspapers are usually Bid/Ask found in newspapers are usually Bid/Ask Averages.Averages.

Bid=Buy; Ask=SellBid=Buy; Ask=Sell

bid/ask spread =bid/ask spread =

Real quote: http://www.usforex.com

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Exhibit 3.1 Computation of the Bid/Ask SpreadExhibit 3.1 Computation of the Bid/Ask Spread

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Foreign Exchange DerivativesForeign Exchange Derivatives

Foreign Exchange (Currency) Foreign Exchange (Currency) Forward, Futures, and Options are Forward, Futures, and Options are contracts that:contracts that:1) specify a fixed amount of currency1) specify a fixed amount of currency

2) to be purchased at a predetermined exchange 2) to be purchased at a predetermined exchange rate rate

3) at a specified time3) at a specified time

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International Money MarketsInternational Money Markets

1. Domestic money market1. Domestic money marketshort-term borrowings or securities that mature within one short-term borrowings or securities that mature within one year.year.

2. International money market2. International money market

Eurodollars: dollar deposits in banks in Europe Eurodollars: dollar deposits in banks in Europe

Asiandollars:Asiandollars:

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International Money MarketsInternational Money Markets

Why firms or individuals would borrow in Why firms or individuals would borrow in international money markets?international money markets?1. firms need foreign currency for a short-term to do 1. firms need foreign currency for a short-term to do international businessinternational business2. the cost of borrowing abroad may be lower2. the cost of borrowing abroad may be lower3. better off if borrow a foreign currency that will depreciate 3. better off if borrow a foreign currency that will depreciate against home currencyagainst home currency

Why firms or individuals would invest in Why firms or individuals would invest in international money markets?international money markets?1. the interest earned from investing abroad may be higher1. the interest earned from investing abroad may be higher2. better off if investing in a foreign currency that will 2. better off if investing in a foreign currency that will appreciate against home currencyappreciate against home currency

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International Credit MarketInternational Credit Market

1. Eurocredit Market1. Eurocredit Marketa. Eurocredit loans (5 years)a. Eurocredit loans (5 years)

b. London Interbank Offer Rate (LIBOR)b. London Interbank Offer Rate (LIBOR)

e.g. LIBOR plus 3 percente.g. LIBOR plus 3 percent

2. Syndicated Loans2. Syndicated LoansWhen banks are unwilling or unable to process a When banks are unwilling or unable to process a very large loan they form groups know as very large loan they form groups know as syndicatessyndicates

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International Bond MarketInternational Bond Market

1. Long-term debt (10 years)1. Long-term debt (10 years)

2. Foreign bond vs. Eurobond2. Foreign bond vs. EurobondForeign bond: bonds issued by a borrower foreign to the Foreign bond: bonds issued by a borrower foreign to the country where the bond is placed. E.g. A U.S. borrower issues country where the bond is placed. E.g. A U.S. borrower issues a bond denominated in Japanese Yen and sell to investors in a bond denominated in Japanese Yen and sell to investors in Japan.Japan.

Eurobond: bonds sold in countries other than the country of Eurobond: bonds sold in countries other than the country of the currency denominating the bonds. E.g. A U.S. borrower the currency denominating the bonds. E.g. A U.S. borrower issues a bond denominated in Japanese Yen and sell to issues a bond denominated in Japanese Yen and sell to investors in Europe.investors in Europe.

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International Stock MarketsInternational Stock Markets

1. Issuance of Stock in Foreign Markets1. Issuance of Stock in Foreign Markets2. Issuance of Stock by Non-U.S. Firms in 2. Issuance of Stock by Non-U.S. Firms in

the U.S.the U.S.3. American Depository Receipts (ADRs)3. American Depository Receipts (ADRs)4. 4. Stock Market Characteristics Vary Stock Market Characteristics Vary

Among Among CountriesCountriesvoting rights for shareholders, legal protection, voting rights for shareholders, legal protection, enforcement of laws, corruption, accounting requirementsenforcement of laws, corruption, accounting requirements

5. Co-movement of International Stock 5. Co-movement of International Stock MarketsMarkets

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Exhibit 3.4 Comparison of Global Stock Exhibit 3.4 Comparison of Global Stock ExchangesExchanges

Source: World Development Indicators, World Bank

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Example 1Example 1

Explain how the appreciation of the Explain how the appreciation of the Australian dollar against the U.S. Australian dollar against the U.S. dollar would affect the return to a dollar would affect the return to a U.S. firm that invested in an U.S. firm that invested in an Australian money market security.Australian money market security.

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Example 2Example 2

Utah Bank’s bid price for Canadian Utah Bank’s bid price for Canadian dollar is $.7938 and its ask price is dollar is $.7938 and its ask price is $.8100. what is the bid/ask $.8100. what is the bid/ask percentage spread?percentage spread?

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Example 3Example 3

Assume Poland’s currency (the zloty) Assume Poland’s currency (the zloty) is worth $.17 and the Japanese yen is is worth $.17 and the Japanese yen is worth $.008. what is the cross rate of worth $.008. what is the cross rate of the zloty with respect to yen? That is, the zloty with respect to yen? That is, how many yen equal a zloty?how many yen equal a zloty?

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SummarySummary

Homework 3: Homework 3:

Q&A 4,7,8,10,18,22,24.Q&A 4,7,8,10,18,22,24.